Health Insurance Competition

Ian McCarthy | Emory University

Table of Contents

  1. Nuance of “competition” in health insurance
  2. Risk adjustment
  3. Managed competition

“Competition” in health insurance

Do we want competition in health insurance?

Public Insurance:

  • Simpler with less administrative overhead
  • Avoids adverse selection
  • Potential for wasteful spending and political influence
  • Potentially lower quality

Private Insurance:

  • Potentially increased efficiency and quality
  • Exposure to problem of adverse selection
  • Less equitable

Employer-sponsored Health Insurance, Small Employers

  • Small employers select an insurance plan(s)
  • Employees choose from available set of plans
  • “Buyer” of the insurance product is the employer
  • Insurer sells to employer with some expectation of the risk profile and health care needs of its employees

Employer-sponsored Health Insurance, Large Employers

  • Large employers typically “self-insure”
  • Insurance plan is more administrative, facilitating claims processing and network structure
  • Employer actually pays out all costs of health care
  • Risk profile less important to insurer (more important to employer)

Managed Competition

Examples of “managed competition” in health insurance include:

  • Fully private insurers in exchanges
  • Fully private insurers replacing Medicaid (i.e., Medicaid managed care)
  • Private insurers alongside public insurers in Medicare Advantage
  • All operate with significant federal and state regulations

Risk Adjustment

Adverse Selection

Those with higher expected health care needs self-select into more generous insurance coverage

  • Insurers price generous policies accordingly, leaving healthier individuals out of the market (underinsurance)
  • Insurers design plans for healthier individuals or attempt to restrict products for high-cost, sicker individuals

Solving the problem of adverse selection

  • The “easy” way: let insurers set prices individually, but this is not good for equity or access
  • How else? Managed competition employs risk adjustment, essentially introducing a wedge between prices paid by enrollees versus fees received by insurers
  • Example: Medicare Advantage, where enrollees pay uniform premiums but CMS pays insurers different amounts based on enrollee characteristics
  • Other solutions: plan lock-in and open enrollment periods

Risk adjustment in Medicare Advantage

Challenge of risk adjustment

  • Hard to predict who will need the most care
  • MA risk-adjustment predicts less than 15% of observed variation in health care utilization
  • Mean predictions are pretty close though
  • Other barriers: should be interpretable and relatively difficult to manipulate by insurers
  • Goal: reduce incentive to disproportionately target healthy individuals without encouraging insurers to manipulate the risk score of their enrollees

Managed Competition

Need for “managing” competition

  • Insurance markets typically highly concentrated
  • Demand for insurance is relatively price-inelastic
  • Little pressure for more efficient, higher quality “products”

Reasons for market power

In MA, almost all markets are dominated (\(\geq\) 95% market share) by no more than 3 insurers. Why?

  • High fixed costs of entry (network structure, price negotiations, regulatory requirements)
  • Network restrictions from CMS necessitate some network structure

Market power and pricing in MA

Basic structure:

  • Plan sets “bid”, \(b\)
  • CMS sets a risk adjusted benchmark rate, \(B\), based on Medicare FFS costs
  • If \(b<B\), plan receives \(b\) plus some percentage of \(B-b\) from CMS as a rebate
  • If \(b>B\), plan receives \(B\) from CMS and \(b-B\) is premium

Market power and pricing in MA

Putting profit function in terms of risk units, the plan’s problem is:

\[\max_{p_{j}} \left(p_{j} + B - c_{j} \right) Q_{j}(p_{j}, p_{-j}),\]

where \(p_{j}\) is the plan’s price, \(c_{j}\) is their cost per enrollee, and \(Q_{j}\) is plan j’s quantity (in risk units)

Solution

\[\begin{align} \frac{d \pi}{d p_{j}} = Q_{j}(p_{j}, p_{-j}) + \frac{d Q_{j}}{d p_{j}} ( p_{j} + B - c_{j}) &= 0 \\ p_{j} + B - c_{j} = \frac{ - Q_{j} }{ \frac{d Q_{j}}{d p_{j}}} &= \left(\frac{d \ln Q_{j}}{d p_{j}}\right)^{-1} \\ p_{j} &= c_{j} - B + \left(\frac{d \ln Q_{j}}{d p_{j}}\right)^{-1} \\ b_{j} &= c_{j} + \left(\frac{d \ln Q_{j}}{d p_{j}}\right)^{-1} \\ \end{align}\]

Interpretation

  • Price/bid depends on sensitivity of enrollment to benefits
  • More competitive means larger response to changes in plan benefits
  • Empirical evidence of price elasticity show 10% increase in enrollment from $10 reduction in bid
  • Suggest markups of 10-25% over costs

And?

Curto et al. (2021) study this in great detail…some key findings:

  • MA plans provide care at lower cost than traditional Medicare FFS
  • But, bids are above what Medicare would otherwise have paid in FFS
  • Nearly 15% more expensive to taxpayer
  • 40% of “excess” payments go to enrollees in the form of additional consumer surplus
  • 60% go to insurers

Key takeaway

  • Market design is really important
  • Changes in rebate calculation
  • Changes in benchmark rates (being implemented now)

Final question - how to measure success?

  • Same product at lower cost than public insurer?
  • Better product at same cost?
  • Larger cost savings with “good enough” product, maybe worse than public insurer?